So what’s changed to prompt the Reserve Bank to trim rates today instead of last month? Nothing that’s in the governor’s brief statement – which leaves us to consider what’s not there.

The 25-point trimming is a surprise, but not a shock as the RBA has been running its “easing bias” line for so long that either the economy had to become demonstrably stronger or the bias put to work – ‘use it or lose it’. And the economy hasn’t become demonstrably stronger.

On the other hand, it hasn’t suddenly become weaker and the summary of the international economy today is, if anything, a little brighter than that of recent meetings.

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Governor Stevens notes that domestic growth was “a bit below trend” in the second half of last year and remains that way. (Today’s meeting would have read the leak that treasury is joining the RBA in forecasting economic growth of 2.75 per cent, never mind that the Treasury Secretary attends the board meeting.) Consumption is nicely running in line with income growth, employment growth isn’t as fast as population growth but unemployment remains relatively low, inflation remains tame – situation now normal – and the effects of low interest rates are working their way through the system.

So the reason for trimming rates comes down to the last three paragraphs of the statement:

“Over recent meetings, the Board has noted that interest rates have already been reduced substantially, with borrowing rates approaching previous lows, and that the effects of this on the economy are continuing to emerge. Savers have been changing their portfolios towards assets with higher expected returns, asset values have risen and some interest-sensitive areas of spending have increased.

“The exchange rate, on the other hand, has been little changed at a historically high level over the past 18 months, which is unusual given the decline in export prices and interest rates during that time. Moreover, the demand for credit remains, at this point, relatively subdued.

“The Board has previously noted that the inflation outlook would afford scope to ease further, should that be necessary to support demand. At today's meeting the Board decided to use some of that scope. It judged that a further decline in the cash rate was appropriate to encourage sustainable growth in the economy, consistent with achieving the inflation target.”

Thus we’re left with just a vague “to support demand”. What’s not being said?

For a start, it’s not “to weaken the troublesome exchange rate”. The bank has spelt out before that it has reduced rates to counter the impact of the high Aussie dollar, not to lower the dollar per se – there is a subtle but important difference. And today’s impact is likely to be like that of the other recent rate cuts, very little after a day or so with the Aussie stuck in a range of about US$1.02 to $1.06 since last July.

It’s also not specifically to support the manufacturing sector. Every small reduction in the cost of debt will help a manufacturer sailing close to the wind, but Australian and international consumers aren’t about to suddenly demand much more of the stuff we make because interest rates are lower. As noted before, consumption is running along nicely enough. And our manufacturers are going through a restructuring bigger than an interest rate movement.

Yes, the RBA would like to see more non-resources construction as resources construction tapers off and easy monetary policy helps encourage people to borrow to build and buy housing – but that fix was already in.

For mine then, the missing words are “fiscal policy”. More than enough is now known about the federal budget and state government ambitions to see that politicians of all stripes are pushing tighter fiscal policy, even while failing to achieve a promised surplus.

What’s broadly missed is that a federal deficit of, say, $15 billion this year (to use AMP’s guesstimate) is still an extraordinary tightening of fiscal policy. As AMP’s Shane Oliver has put it:

“Moreover it should be borne in mind that the budget deficit will still be well down from last year’s $44bn and the turnaround in the budget deficit from 3% of GDP to around 1% this year will still be the fastest turnaround on record (since 1980).”

So the government can claim that its policies are “allowing” the RBA to trim rates, when it’s more like they are forcing the RBA’s hand. Monetary policy has to become more stimulatory to try to counter the contractionary effects of fiscal policy, with the promise of more to come from both sides of parliament.

That should lead to a broader debate about the best way to run an economy, as monetary policy remains a very blunt instrument. It’s much easier for the politicians to try to blame all their revenue woes on the currency rather than explain the more complex corner they’ve painted themselves into on speedy deficit reduction.

Michael Pascoe is a BusinessDay contributing editor.

35 comments

It seems to me this rate cut is simply designed to join the global currency "war" and nothing else. It will backfire and won't do any good.

Commenter

Dan

Location

Sydney

Date and time

May 07, 2013, 3:38PM

It's actually designed to allow residential construction take over from the mining boom, via increased house prices which will encourage more resi development - i.e. more profits for developers when they sell at higher prices.

This rate cut is great news for homeowners and property investors as it will accelerate the recent house price growth. Watch out for 80% plus Sydney auction clearance rate this weekend!

Commenter

Foxy Trollwolf

Location

Australian Property Forum

Date and time

May 07, 2013, 4:42PM

The higher Aussie $ is in part due to the strength of our economy, but also a safe haven given the economic problems in the EU and US. Cyprus going under in a minnow. Hedging into Aussie is about a domino effect from the possible collapse of Spain.

I attend several major experts' economic seminars each year, the current consensus is the Aussie is overvalued by 7%. But no one who counts (the Rating Agencies, Finsia employers, IMF) is especially worried. Our Commonwealth debt is low, less than have business debt and second lowest in the OECD.

Manufacturers whine about their exports, yet, they could exploit the opportunity of the higher dollar to important niche capital equipment from countries like Germany, on historically favourable terms. Better equipment would ultimately improve productivity and produce higher profits. If they are too little equity and/or have poor credit ratings, to so, whose fault is that? Not the Government's.

Commenter

Oliver

Location

Summer Hill

Date and time

May 08, 2013, 2:12PM

Basically we have two choices to drive demand in the economy: deficits or low interest rates. It would nice to fix some of the problems that lead to this but that isn't popular electorally so very few countries in the world have done that. By choosing the low interest rate option we are opting for the risk of another asset bubble, one which will eventually lead to a large crash. Anyway it will keep people happy that their house prices aren't falling. Unless our dollar starts really collapsing and then anything might happen.

Commenter

Ken

Location

Date and time

May 07, 2013, 3:43PM

Think the RBA has got this one wrong. They look to have ignored the stimulatory impact of the sharemarket boom of recent months. Barring any international crashes, look to see boom times in the second half of the year as housing takes off and people spend the sharemarket windfall.

Commenter

Flatearth

Location

Date and time

May 07, 2013, 3:43PM

Yeah...nah, I"m going to have to disagree with this one.

Commenter

AB

Location

Date and time

May 07, 2013, 4:24PM

Flatearth by name, and logic. Its fortunate for the other 23 million Australians, that the RBA OCR committee doesn't share your reckless opinion, of how the impact of one improving metric (the share market), and its stimulus on the country, into out of control expansion in a few months. Good luck with that idea flatearth.

Commenter

sapphire

Location

Date and time

May 07, 2013, 5:20PM

Agree with your conclusion. Disagree that any trend higher house prices are bad. If memory serves, we are at nadir of the RBA's range, so the twin stimulus should be okay.

Commenter

Oliver

Location

Summer Hill

Date and time

May 08, 2013, 2:17PM

This is only the start. We can look forward to even lower interest rates and then Quantitative Easing. After all, why should Australians miss out on the good things which America and Europe enjoy? They have it, we want it.

Commenter

Billnix

Location

Western Sydney

Date and time

May 07, 2013, 3:57PM

falling interest rates are a sign of a failing economy. No doubt Wayne and Julia will claim credit for this.